If you have ever talked with Acceleration Partners about your new online business idea, you are sure to have heard us say “get to revenue fast.” This was tough advice to give when the market seemed to reward top-line user growth over revenue and profitability, but now things are changing in a hurry.
It’s one thing not to be profitable; it’s an entirely different ballgame not to have revenue. Before the Internet, it never really happened because the cost of starting a business was higher. Can you imagine a retail store that was more concerned about how much foot traffic it had than it was about what was sold? Or a newspaper that ran without any advertisements or subscription fees in order to be popular with readers? Revenue matters not just because you need cash to pay for the business, it matters because generating revenue demonstrates that the service you are providing is valuable enough that customers are willing to pay for it.
There are three major problems with not focusing on revenue generation from the get-go. The first is that you can’t tell if you have anything of value if users or advertisers won’t pay for it; there are lots of things that people like when they’re free. The second is that you can’t learn what works and what doesn’t work from a business model standpoint unless you can generate data; most businesses learn through trial and error, and paying customers will tell you what they think. The third problem—one that most people don’t consider—is user entitlement. Basically, customers who have received your service or product for free come to feel entitled to it; they revolt at the introduction of fees or advertising. We saw this first-hand when a major online social media client was forced by investors to make a big change to their business model. Their core user base revolted, and the site never recovered; the company shut down months later.
Every business needs to figure out early on what customers value and will pay for. The IPO boom of the late ’90s and the acquisition craze of the past few years resulted in many companies being purchased under the greater fool theory of “if they have a lot of users, they must be worth something to someone.” Most of these IPO and acquisitions have been disastrous for the acquirer, and the market for these exit strategies is now nonexistent. Also, some of the most “popular” websites in the world still have not figured out how to be profitable or generate meaningful revenue, even with tens or hundreds of millions of users. As the economy slows and losses pile up, investors are beginning to question the enormous costs of providing the infrastructure for these services.
As a basic premise, we maintain that a business with 1 million users that can’t figure out how to make money is actually worse off than a business with 100 users with the same problem. For a site like Facebook, its inability to generate meaningful revenue or profitability with so many users demonstrates the popularity/profitability paradox. Building a sustainable business is often in direct contention with gaining the most users; business is not a popularity contest. If you want your business to be around in a few years, you need to stop trying to get everyone to love you and build something that is valuable enough that someone will pay for it.
As we enter what looks to be a very difficult few years in the economy, with much of the “easy money” no longer available, the only sustainable strategy for many businesses is going to be to generate revenue and cash flow. It might not sound sexy, but cash is king once again.